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Abe Sherman: Stock Synchronicity

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Abe Sherman advises accuracy when recording inventory.

HOW DOES THE FIGURE for inventory listed in your year-end balance sheet compare with the inventory reports produced by your POS software? If the two numbers are not in sync, you’re situation is like that of a lot of jewelers. In fact, it is pretty common for for these two figures to be wide apart!  

This ?anomaly? stems from the different purposes each of these reports serves. Indeed, the differences in the data may even be deliberate. But does it matter and should we do anything about it? 

Before computers, accounting was done manually. The number that appeared on the balance sheet as inventory was often a guess. Further, inventory was adjusted to make the business look healthier (for the banker) or to reduce taxes (for Uncle Sam). Manipulating the inventory number was very easy to do, but at what cost? The cost was a lack of data integrity that left business owners struggling to understand how to manage their businesses because of inaccurate or incomplete financial statements.  

Today, most stores are computerized, and an accurate inventory should be reflected in your financial statements, using an inventory number from your POS system.  

The problem is, if you had been carrying inaccurate inventory numbers forward for decades, it can be very costly to make the adjustments from your financial statements to fit your current reality. But without accurately reporting your inventory, your financials are not the functional management tools they could be, and that I believe they should be.  

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Regardless of what you and your accountant determine is the best way to report your company’s performance, getting accurate financial data is imperative. While the financials are usually just view-ed as historical reports, we believe a far better use of the data is as forward-looking management tools. Organizing your financial statements is a bit of a challenge since your accountant knows only one way of looking at your business and doesn’t really understand that some things should be isolated and measured individually. 

One of the more interesting things about inventory is that it’s listed as an asset. We all saw assets as good things, so as our inventory levels kept rising, we never worried about it. But inventory starts costing you money the day you bring it in! So, in addition to knowing exactly how much inventory you own, you also need to know how it’s performing. 

For the purposes of your internal financial statements, I recommend you separate inventory into two categories: current inventory and aged inventory. The typical jeweler is carrying about 45 percent aged inventory, thus affecting cash flow. If you start measuring aged inventory and can see how it is trending over a three-year timeframe, you will have a far better idea of how to manage it. If you ignore it, aged inventory will suck up much of your cash, not to mention showcase space. 

I would not provide these internal reports to your banker. As far as she is concerned, inventory should appear as a single number (the asset she loves to see). This is unless you are able to dramatically reduce your aged inventory and improve your cash flow. Then you should share it with her. Why? To demonstrate your understanding of the issues that affect cash flow and your effectiveness as a manager. You may want to share these ideas with your accountant and work together to produce more functional financials.

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